The operator introduces the Fortinet Second Quarter Earnings Call and explains the format. Aaron Ovadia, Director of Investor Relations, welcomes everyone and introduces the speakers. Ken Xie, Founder, Chairman and CEO, will provide a business overview, followed by CFO Keith Jensen who will review financial results and provide guidance. The call will then be open for questions. Forward-looking statements will be made, and listeners are reminded to refer to SEC filings for more information.

In the second paragraph, the speaker discusses the financial metrics and references made during the call, clarifying that they are non-GAAP unless stated otherwise. They also mention the availability of GAAP to non-GAAP reconciliations and the posting of prepared remarks on the Investor Relations website. The speaker then hands the call over to Ken, who discusses the company's strong execution in the second quarter, achieving record operation margin and balancing growth and profitability. They also mention investments in fast-growing markets and the increasing recognition of their technology. The speaker believes they are a leader in the SASE market, with a differentiated offering built organically.

Fortinet offers a converged networking and security stack, including SD-WAN, ZTNA, Secure Web Gateway, CASB, Firewall, and other innovations. Their SASE offering allows for flexible enforcement and a better user experience while securing access to on-premise and cloud applications. They recently acquired Next DLP, expanding their presence in the enterprise DLP and SASE markets. Fortinet has also improved their position in the Gartner Magic Quadrant for single-vendor SASE and is the only vendor included in all five major network security Magic Quadrants. Their comprehensive Secure Ops portfolio, backed by over a decade of AI experience, offers advanced analytics and sensors to continuously monitor access activity and identify cyber threats. AI-driven Secure Ops accounted for 10% of total building in the second quarter. Fortinet also offers AI-powered FortiGuard secure service and unified management, as well as AI-driven FortiAnalyzer for SIM and storage.

Fortinet is pleased to announce their acquisition of Lacework, which will expand their secured portfolio and make them one of the most comprehensive cloud security solution providers. This acquisition also increases their total addressable market by $10 billion and adds a team of talented engineers and sales force to their company. Fortinet has also announced enhancements to their security platform and earned a prestigious Red Dot product design award. The company credits their success to their employees, customers, partners, and suppliers, and achieved record growth in operating margins and top line numbers in the second quarter.

In the fifth paragraph of their earnings report, Fortinet discusses their 11% revenue growth, driven by strong software and hardware sales. They also mention their investments in the Unified SASE and security operation markets through recent acquisitions. Fortinet emphasizes their commitment to customer trust and responsible practices, and highlights their scale advantage and validation from hundreds of thousands of end customers. They encourage readers to visit their trust website for more information.

Total billings for the company were consistent year-over-year, despite the challenges posed by the drawdown in backlog. There was also an increase in bookings, with strong growth seen in Unified SASE and SecOps solutions. These two pillars are gaining momentum within the company's existing customer base, with larger enterprises being the main customers. The company's Unified SASE solution has been recognized as a challenger in the Gartner Magic Quadrant for the second consecutive year. The SMB segment and international emerging markets were the top performers, while technology and transportation industries saw double-digit growth.

In the seventh paragraph, the company discusses its revenue and margins. Total revenue increased by 11%, driven by growth in service revenue and software licenses. Service revenue grew by 20%, with SecOps and Unified SASE leading the way. Product revenue decreased by 4%, but improved compared to previous quarters. Software license revenue grew by 26% and accounted for a higher percentage of product revenue. The company's total gross margin also increased, reaching a quarterly record of 81.5%, mainly due to higher product and service margins. Product gross margin increased by 250 basis points, and service gross margin increased by 240 basis points.

In the second quarter, the company saw a significant increase in operating margin and free cash flow. They also had several major wins, including a 7-figure deal with an international government agency and a large utility company, both of which chose Fortinet for its comprehensive security solutions. The company also mentioned their remaining share buyback authorization of $1 billion.

Fortinet's expansion win was due to their expertise in securing critical infrastructure and their competitive pricing. They also had a successful displacement win with a retail store chain purchasing their FortiSASE solution. The customer chose Fortinet for its integrated FortiOS platform and seamless integration with their existing security solutions. The company has seen a 25% improvement in the number of days of registered FortiGuard contracts, indicating a normalization of inventory digestion and potential recovery in the firewall market. However, the tough macro environment and election year in the U.S. may impact customers' purchasing decisions, leading to a full refresh cycle likely occurring in 2025 rather than 2024. The company's third quarter and full year outlook is subject to forward-looking information disclaimers.

The paragraph discusses the impact of recent acquisitions on the company's financials and provides estimates for the third quarter and full year. It mentions expected growth in billings and revenue, as well as non-GAAP gross margin and operating margin. The paragraph also includes projections for earnings per share, capital expenditures, tax rates, and cash taxes. The speaker concludes by expressing their anticipation for updating on the company's progress in future quarters.

The speaker expresses sadness over the passing of their colleague, Peter Salkowski, and highlights his contributions to the company. They also mention his impact on others and the increase in shareholder value during his time at the company. The speaker then introduces the Q&A session and asks participants to limit their questions. The first question is about the company's margins and the speaker is asked to explain where cost efficiencies were seen and how sustainable they are considering efforts to incentivize the sales force to focus on selling certain products.

The company's gross margin has had the biggest impact on its operating margin in recent quarters, and it has now returned to a more normal state. The company expects this trend to continue, but may invest more in sales and marketing in the second half of the year due to recent acquisitions. The company is comfortable with its guidance for both Q3 and the full year. When looking at free cash flow, it is reasonable to expect a similar spread between margin and cash flow as in the past, but there may be other factors to consider such as contract duration.

The speaker, Keith Jensen, discusses the company's financial performance and the potential for leveraging their balance sheet with customers and prospects. He does not anticipate a significant change in this area in the next few months. A question is asked about the company's operating margin, which was higher than expected, and Jensen explains that it is likely to remain the new base going forward. He also mentions the potential for increased investment in go-to-market strategies. CEO Ken Xie adds that the company will benefit from higher-margin service revenue.

The speaker discusses the growth of the company's software license, which has accelerated by 26% year-on-year and now makes up a high percentage of product revenue. They explain that this is due to the compelling nature of their firewall and ASIC products, and that their goal is to get the operating system into the hands of the customer. This can lead to selling more firewall use cases or expanding the SecOps product line within organizations.

The company expects to see continued growth in the software part of the business, but there may be a slowdown due to a shift in the mix of products. The CEO and CFO believe that the firewall refresh cycle may not recover until 2025, possibly due to external factors like the upcoming election and high interest rates. They believe that companies may not want to make long-term investments in products during this time.

The company believes that due to historical trends, there will be an increase in network refreshes in the next 1-2 years, which will drive investment in infrastructure. They also see a trend towards hybrid models, with a need for both cloud-based and on-premise solutions. The analyst asks about the drivers for billings and the outlook for billings and OpEx.

Keith Jensen and Ken Xie discuss the impact of the recent acquisitions on billing and the company's financial performance. Jensen explains that there will be a slight adjustment in the third quarter but overall, the full year numbers remain unchanged. He also mentions that there may be some opportunities to invest in sales and marketing in the future. Tal Liani asks about the outlook for OpEx and buybacks, to which Jensen responds that they hope to make investments in sales and marketing.

The company has seen significant growth due to recent acquisitions, but they remain opportunistic in their buyback plans. The market has become more favorable for the company, and they are seeing strong performance in international markets, particularly in emerging countries. However, there may be some risk in these regions due to geopolitical events, but the company remains the market leader in most international markets.

Ken Xie, CEO of cybersecurity company Fortinet, discusses the advantages of having an incumbency advantage in the industry. He explains that this advantage helps during challenging times as it allows for cross-selling and upselling to the existing customer base. He also mentions plans to invest more in sales and marketing in the U.S. to gain market share. CFO Keith Jensen adds that the company's billings duration may be shorter for new customers in white space accounts, but the installed base continues to purchase with longer durations. Analysts are interested in the potential compression of billings duration with more cloud-based or software deals, but Jensen defers to the upcoming Analyst Day in November for further discussion on 2025 projections. The next question is from Shaul Eyal of TD Cowen.

During an earnings call, Shaul Eyal asked Fortinet's CEO Ken Xie about the company's potential refresh cycle and if 2025 would see accelerated growth. Xie responded by stating that the company is seeing a convergence of networking and security and expects a 15% year-over-year growth in the secure networking area. He also mentioned new opportunities in the OT and Unified SASE areas. Xie believes that next year will see a refresh cycle for existing customers and that the FortiGate firewall product is starting to see growth. In response to a question about the service provider segment, Keith stated that it was more challenged this quarter after being a strong performer last quarter.

The speaker is discussing the performance of Fortinet in the service provider and telecom segment, which has been lumpy but is expected to continue growing in the long-term. They mention the potential for service providers to offer their own SASE solutions using Fortinet's products. The company has shown impressive operating leverage, particularly in the sales and marketing line, but the speaker notes that it is still higher than desired.

The company's margins have decreased slightly due to changes in their cost structure, including cuts to marketing programs and adjustments to compensation. However, they plan to revisit these decisions and continue making investments in sales and marketing in the second half of the year. They are also tracking the ROI of these investments and plan to accelerate hiring in the sales and marketing department to drive future growth.

The speaker discusses the company's strong product gross margin performance and the pricing dynamics in the core firewall business. They mention that they have not increased prices in the last few quarters and believe they have a competitive advantage with their technology. They also mention that there is no pressure to decrease prices and that the inventory has normalized, leading to a healthy business environment. The CFO adds that the last price increases were in late 2021 and 2022, with some decreases in early 2023 and 2024.

Fortinet recently acquired Next DLP, a stand-alone enterprise data protection company. The company's technology is highly regarded and will be integrated with Fortinet's FortiSASE solution. This acquisition is part of Fortinet's strategy to continuously improve their solution. Most of Fortinet's technology is organic, but they have also done some tech and talent tuck-ins. The company is confident in the success of their strategy, especially with the expected growth in the firewall market next year.

The company has recently organized their solutions into three pillars and has made impressive progress in developing competitive solutions in SASE, SecOps, and secure networking. This is seen as an important step in continuing to develop the best SASE solution for their customers. The sales force has been focused on training and enablement, and while it may take time, there is a lot of opportunity for sales and support in these solution sets. The company often starts with the firewall and then expands to other solutions, and this approach has been successful.

Ken Xie discusses the upcoming firewall refresh cycle and how it differs from previous cycles due to the increase in hybrid working environments and the need to secure OT/IoT devices. He also mentions the importance of a unified SASE approach that combines hardware and software. The network security market has been growing for the past 30 years and the convergence of network and network security is driving the refresh cycle. This is also reflected in Gartner's research.

Fortinet is investing in secure networking and expects it to surpass traditional networking by 2026. They are focusing on long-term strategies, such as investing in sales and marketing, to stay ahead of the trend and gain market share. The software mix in products has a run rate of $800 million, with virtual firewalls and SecOps contributing to attractive margins. The margins for SecOps solutions will normalize as they gain more traction and critical mass.

In the paragraph, the speaker discusses the company's recent performance in terms of product sales and their ability to absorb various costs. They also mention a strong market and increased positivity at the end of the second quarter, leading to more deals being closed. The speaker also addresses a question about the expected billings re-acceleration in the second half, mentioning a shift in mix and potential for increased visibility.

The speaker, Keith Jensen, believes that the form factor of virtual or physical machines does not affect the visibility of the company's pipeline or forecasting with sales teams. The CEO, Ken Xie, plans to provide more information on this topic at upcoming events. The company will attend investor conferences and hold an Analyst Day in November to update their financial model. The webcast link will be posted on the company's Investor Relations website. The operator concludes the call and invites participants to disconnect.

This summary was generated with AI and may contain some inaccuracies.